Sole proprietors, independent contractors, partners in partnerships, and members of multi-member LLCs are all required to pay a self-employment (SE) tax, which consists of two elements: Medicare tax, and Social Security tax. Since employers normally determine how wages should be withheld, self-employed taxpayers are responsible for determining their own SE tax liability. In this article, we’ll discuss how US citizens and residents abroad are affected by self-employment tax.
Self-Employment Tax Requirements for US Expatriates
In most situations, expats are subject to self-employment tax just like their domestic counterparts.
The SE tax applies to net earnings, derived from self-employment, which met or exceeded $400 for the year. With the exception of deductions which are related to your business, your net self-employment income generally encompasses all income you earn from your business, while your net earnings represent only a portion of your overall net income.
The SE tax is determined based on your self-employment net earnings. As noted above, self-employed taxpayers use Schedule SE (Form 1040) to calculate the precise amount.
Schedule SE contains a flowchart which guides taxpayers through a series of questions that will determine whether the taxpayer is permitted to use Short Schedule SE. Some taxpayers will be required to use Long Schedule SE, which is more complex. In either case, Schedule SE should be attached to your income tax return, unless the following statements describe you:
- You are not required to file a Form 1040.
- You are a resident of one of the following:
- American Samoa
- Commonwealth of the Northern Mariana Islands
- Puerto Rico
- U.S. Virgin Islands
If the above statements apply to you, you should use Form 1040-SS or Form 1040-PR to determine your SE tax.
You must consider all of your self-employment income when you are determining your net self-employment earnings. This extends to income which is exempt from income tax under the foreign earned income exclusion ($100,800 for 2015, up from $99,200 the previous year, as well as certain amounts under the foreign housing exclusion).
The first $117,000 of your combined net earnings, tips, and wages are subject to self-employment tax for 2014, increased from $113,700 for 2013. As of 2015, the SE tax rate is 15.3%, broken into two parts: 2.9% for Medicare, and 12.4% for Social Security (which itself is broken into two parts – the 6.2% rate for employers, and the 6.2% rate for employees).
Social Security, Medicare Tax, and Totalization Agreements
As of 2013, individuals whose income exceeds certain thresholds are also subject to an additional 0.9% Medicare tax, simply known as the Additional Medicare Tax. This includes income from self-employment. You are subject to the Additional Medicare Tax if your income exceeds the following limits:
- Single – $200,000
- Married (Filing Jointly) – $250,000
- Married (Filing Separately) – $125,000
- Head of Household (with Qualifying Person) – $200,000
- Qualifying Widower (with Dependent) – $200,000
Unfortunately, your status as a US citizen abroad does not remove your liability for the Additional Medicare Tax. As the Internal Revenue Service notes:
“There are no special rules for nonresident aliens and US citizens living abroad for purposes of this provision. Wages, other compensation, and self-employment income that are subject to Medicare tax will also be subject to Additional Medicare Tax if in excess of the applicable threshold.”
As we discussed in our article about Social Security tax for expatriates, the United States has Totalization Agreements with dozens of countries, primarily concentrated in Europe, which are designed to prevent double-taxation. If you reside in a country which has entered a Totalization Agreement with the US, you may choose to have your earnings covered by the Social Security program where you live, which means you will not have to pay Social Security tax. The IRS also notes that, at least typically speaking, “self-employed persons who are subject to dual taxation will only be covered by the social security system of the country where they reside.”
Whether you’re already living abroad or are planning on expatriating in the near future, it’s important to review your tax responsibilities to ensure your full compliance with US tax laws. Negligent or accidental failures to comply can result in the imposition of costly penalties – and if the IRS determines that failure to pay tax was willful, or deliberate, you could even find yourself facing criminal charges subject to fines and jail time.
If you’re a self-employed expatriate and have any questions or concerns about your tax obligations, call CPA Ted Kleinman at (800) 810-9312 to set up a free and confidential consultation. Ted has more than 20 years of experience assisting expats around the world with a wide variety of tax matters.